Markets in a spin as end to stimulus nears

It hasn’t felt as panicked as it was during the eurozone crisis, five years ago, but this has been a choppy week for the bond markets.

There has been a broad-based sell-off, but possibly the best illustration that all is not well is in the example of bunds, German government bonds.
The yield – which goes up as the price goes down – on 10-year bunds has seen its biggest weekly rise this week since December 2015.
Gilts, UK government bonds, have also seen a sharp increase in yields.
The yield on 2-year gilts this week hit 0.372%, the highest since 24 June last year, the day after Britain voted to leave the EU.
Similarly, the yield on 5-year gilts has hit its highest level since 23 November, the day Philip Hammond, the Chancellor, dramatically revised higher the Government’s forecasts for its expected borrowing.
And the yield on 10-year gilts has risen during the last three days by more than in any three-day period for two years.
US Treasuries have also seen yields climbing this week.

Image: Mark Carney has hinted a removal of some monetary stimulus could be needed
So what’s going on?
In a word, it’s down to central bankers such as Mark Carney, the Governor of the Bank of England and Mario Draghi, president of the European Central Bank.
Both they and their colleagues have dropped hints during the last week that the extraordinary monetary conditions that have dominated during the last decade, of ultra-low interest rates and asset purchases, known in the jargon as quantitative easing, are coming to a close.
Mr Carney, for example, just days after the Bank of England’s Monetary Policy Committee (MPC) came closer to an interest rate rise than it has done during the last nine years, said in a speech on Wednesday that “some removal of monetary stimulus is likely to become necessary” should business investment and other elements driving demand in the economy start to pick up.
Inflation is already well ahead of the Bank’s target rate of 2% and it is clear that some on the MPC will not be prepared, for much longer, to regard this as a temporary phenomenon caused by the collapse in sterling following the Leave vote.
Andy Haldane, the Bank’s chief economist, is another to have hinted during the last week or so that he is coming closer to voting for an interest rate rise.
The result of all these comments is that investors are now starting to take seriously the possibility that the Bank may raise interest rates, or even start to unwind some of its asset purchases, later this year.
It has had an impact on the pound, which has this week punched above $1.30 for the first time since the end of May, helping it complete its strongest quarterly gain in two years against the greenback.
Strikingly, all this comes at a time of immense political uncertainty, suggesting that investors and traders are “looking through” the politics to concentrate on the interest rate backdrop.
Something similar has been going on in the eurozone, where for some months now the economic data has been getting steadily more encouraging.

The latest indicator of this came when, on Friday, eurozone inflation came in at a higher than expected 1.3%.

Image: Mario Draghi may start slowing the rate at which the ECB makes asset purchases
That may seem pretty low by UK standards – and was a slight fall on the previous month – but shows the progress the eurozone has been making after being haunted by the threat of negative inflation for the last few years.
Eurozone economies that for several years have experienced little or no growth are suddenly starting to enjoy a pick-up in activity.
Spain, for example, grew by 3.2% in 2016 and posted growth of 0.7% during the first three months of 2017.
Neighbouring Portugal, another economy that was blighted during the eurozone crisis, is currently growing at an annualised rate of around 3%.
Business sentiment is improving and investment is picking up and unemployment, which stood at a eurozone average of 10.5% at the end of 2015, has fallen to 9.6% – still considerably higher than the rate in the US and UK, but heading in the right direction.
Accordingly, Mr Draghi has started to muse that it may be time to start unwinding the monetary stimulus that the ECB has been delivering to the eurozone for the last five years since he made his famous “whatever it takes” comments.
While it may not yet be time for the ECB to start unwinding some of the €2.3tn asset purchases it has made, investors believe it is certainly close to slowing, or “tapering”, in the jargon, the rate at which it continues to add to them.
This has not been lost on investors – hence the rise in the yields of bunds and some other eurozone government bonds and also in the euro, which so far this year, has increased in value by 9% against the US dollar.
The ECB and the Bank of England are not the only central banks pondering a return to more normal monetary conditions.
The US Federal Reserve has led the way, having already raised interest rates four times since December 2015, with at least one more increase expected this year.
Others are now following. Stephen Poloz, Mark Carney’s successor as Governor of the Bank of Canada, hinted this week that the bank is coming closer to raising interest rates for the first time in seven years.
The central banks of New Zealand and Australia have also spoken in recent weeks of policy normalisation, as has Norges Bank, Norway’s central bank.
All this talk of interest rate rises spilled into a modest sell-off in both bonds and equities this week. But, on the whole, it is good news.
The global economy is growing in a synchronised way for the first time since the financial crisis.
Everyone should welcome that.